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Sophisticated What?

If all of the allegations about Bernie Madoff’s Ponzi scheme that apparently bilked $50 billion from millionaire investors prove true, shame on you—the sophisticated investor.

A stint in the brokerage business years ago introduced me to the term “sophisticated investor”. The criteria for receiving that label was about the same then as it is now. Basically, it’s someone with investing experience who can afford to plop down a hefty chunk of money for securities that the little guy can’t afford and isn’t privy to because he or she doesn’t have the net worth, or annual income, required.

There’s no written or oral exam that an individual has to take to prove that they indeed are a sophisticated investor. Or, test proving that they’ve read all the documents and are familiar with the risks involved. Nope. The latter often goes undone. The real means test is moola.

Investments available to this select group, by the way, don’t have to be regulated ones, like stocks on the major exchanges or mutual funds are, and likely have some illiquidity issues. But, they promise the opportunity for great rewards. Rewards that always come with the caveat of greater investment risks.

Nothing new here. So my heart’s not breaking for anyone suckered into Wall Street’s latest scandal. There’s not an investor around who doesn’t know that investing comes with risks and that the greater the potential for reward the greater the risks.

What’s always a head-scratcher, though, is how those with sizeable amounts of available cash, who can afford to throw a few million into say a hedge fund or other unregulated security, react to a scheme that’s gone sour for them as if they’re above the fray. Did they really believe that there weren’t any serious downside risks involved? That they could afford to over look any red flags they might have sensed? Or can ask for their money back when things don’t work out?

It’s a goofy game, this money one. But I’m certain of the following with regard to it: For openers, there are tens of millions of people with millions to invest and calling them “sophisticated” just because they’ve got the bread is like assuming that they are all smart just because they have money. The two don’t necessarily go hand-in-hand. Ponzi pros know that.

More importantly, while I don’t know how many true sophisticated investors there are in this world, I do know that there are plenty of sophisticated investment schemes available. And you need to remember that.